States Too Dependent on Federal Aid: Tenn. Governor

When federal stimulus money runs out in the first quarter of next year, Bredesen doesn’t want to be one of the states that “think Uncle Sam will somehow step in and fix it all up,” he said.

In a recent interview with CNBC, Bredesen criticized some states for becoming dependent on federal funding. He warned those states that have made up for their budget shortfalls with federal money are going to be in trouble in January when they find themselves without that cash.

“An awful lot of states took that money and treated is as continuing money and not like one-time help,” he said. “So a lot of states this coming January have a cliff they’ve got to navigate. There’s going to be some dislocation. You’re going to see some problems.”

Bredesen said he treated the federal funding Tennessee received as a one-time aid. He continued to use budget cuts and public employee layoffs to reduce the state's sizeable budget gap.

“We’ve legislatively done everything we need to go ahead and make the cuts that are necessary,” said Bredesen.

Raising taxes to increase state revenue was not an option for Bredesen, who is the first Tennessee governor in modern times to complete two terms without raising the state sales tax. However, a new shortfall of $170 million has opened in the state’s current $29 million budget, even after legislators cut $230 million in last year’s session.

America's Top States for Business - A CNBC Special Report

Tennessee placed a respectable 16th on CNBC’s America’s Top States for Businessrankings this year. The state’s workforce and business friendliness, at 5th and 6threspectively, were the main drivers behind Tennessee’s success. But a first-place ranking in the cost of living category demands that state officials ramp up their efforts to attract new companies.

“This has been a tough time for Tennessee, but it’s also been a time of opportunity for us with some major investments,” said Bredesen.

In the last seven years, 2,889 companies, including Nissan, International Paper and Volkswagen, have expanded or moved to Tennessee, bringing more than 104,000 jobs and $12.8 billion in new business investment to the state. (Click here to watch video interview with International Paper CEO John Faraci.)

Bredesen also led the state’s efforts to recruit two professional sports teams: the NFL’s Tennessee Titans and the NHL's Nashville Predators.

Source: lpfield.com

As of August 2010, the state’s unemployment rate was 9.6 percent, down from 10.9 percent in August 2009.

“When the economy gets soft like it has, the state becomes more attractive as a place to do business,” said Bredesen.

The former founder and CEO of HealthAmerica, a health insurance corporation, Bredesen runs his government like a business. He said that states like his will continue to attract new companies as long as “investors are willing to look on a state-by-state basis and not lump all states into some category.” If investors follow his advice, Bredesen said, “They’ll find great bargains there.”

In the long run, these investment categories might not matter if a few key states fail—namely California and Michigan.

“That can’t possibly be good thing for the country or a good thing for the economy,” said Bredesen of state failure, adding that “it produces a huge drain on the economy and we can’t absorb too much more of that in these states.”

Until recently, state failure was a distant hypothetical, albeit a scary one. However, several prominent figures, including banking analyst Meredith Whitney and economist Nouriel Roubini, have said that state failure is a real danger, due in large part to skyrocketing municipal debt across the country. While states technically cannot go bankrupt, the assumption is that the federal government would step in to resuscitate them should they default on all of their debts.

Financial failure would be especially catastrophic for California, which has the eighth-largest economy in the world. Bredesen likened that scenario to the equivalent of several investment banks failing. He says if larger states go under, they might drag the smaller states down with them by causing the markets to tank and usurping valuable federal resources.

“It has huge impact on the competence of the financial markets of the states,” said Bredesen of the failure of individual states. “It can’t happen. We have to figure out how to prevent it.”

One bright spot for Tennessee is a rise in its citizens’ personal income, which could help to improve consumer confidence, and in turn, the state economy. According to a report released this summer from the University of Tennessee, nominal personal income in Tennessee will increase 2.8 precent in 2010 and as much as 4 percent in 2011.

The report also predicted that, while the worst is over for Tennessee, the state will not see economic activity return to pre-recession levels until 2012 or 2013.

“I tell people in the state here that in business you don’t earn your pay in the good years, you earn them in the tough ones,” said Bredesen.

Governors and legislators need to "rise to the occasion," said Bredesen, even if it means making tough and unpopular decisions, including further budget cuts and layoffs. “This is the time when we have to show what we’re made of,” he said, “And whether we can lead people through some difficult times.”

Look for Nicole Lapin's interview with Tennessee Governor Phil Bredesen on Friday, October 29 in her "States of Pain" report on "Worldwide Exchange,"5-6am ET on CNBC.